Updated 26 May 2022
Teachers, NHS workers, police, firefighters, the armed forces and many other public sector workers have a special kind of workplace pension: the defined benefit (or final salary) scheme. (Some private sector organisations offer them too.) These are different from most workplace pensions and work according to a specific set of rules. They also contain valuable benefits that you need to know about. If you've got an NHS pension then it might be worth seeking NHS Pension Advice from a professional financial adviser to help you make the most of it.
Unlike most pension schemes, a final salary or defined benefit (DB) pension doesn’t depend on a saved pot of money. Instead, it will pay you an income from the start of your retirement until you die, and often a tax-free lump sum too.
How much you receive will depend on your pensionable service (how long you’ve been a member of the scheme), your pensionable earnings (either your salary at retirement, or your average salary over the period of your membership) and the scheme’s accrual rate (the proportion of your salary you receive as pension for each year of service). A typical accrual rate might be 1/80, which means that if you spend 20 years in the scheme, your DB pension would pay you 20/80 (i.e. a quarter) of your final salary. So in this scenario, if you retired on a salary of £40,000 then you’d receive £10,000 a year for the rest of your life.
Most DB schemes will also give you the option of taking a tax-free lump sum at the point of retirement, as well as your guaranteed income for life. In some schemes, taking a lump sum may reduce your annual income, but a lot of public sector pension schemes pay an automatic lump sum in addition to your annual income.
Pension freedom applies only to defined contribution (DC) schemes, giving people access to their pot of money from the age of 55. With DB schemes this does not happen, as the schemes are designed to pay out over a period of time. Benefits are generally paid from a date set by the scheme, often called ‘normal pension age’ or ‘normal retirement age’ or similar. Usually this will be later than 55, though some schemes may offer early retirement with a reduced pension.
It depends on the kind of DB pension you have. Some schemes (such as the Local Government Pension Scheme or private-sector schemes) are known as funded schemes, because they are supported by a central fund. If you really want to, you can transfer out of these DB schemes. Your pension is then moved into a DC scheme, the size of which would be determined by your pension’s transfer value. Be aware that this value may be significantly less than you would have received over your retirement if you had remained in the DB scheme – the advantage would be that you could access it in a variety of different ways, even all at once.
Many public sector pensions are ‘unfunded’ schemes – that is, there is no central fund, and they are paid for only by the taxpayer. The pensions of teachers, firefighters, NHS workers, the police and the armed forces all fall into this category. This means it’s not possible to transfer from this kind of pension into a DC scheme.
But this shouldn’t be seen as a negative. Most public sector pensions still outstrip the vast majority of DC pensions out there. You may not have the same flexibility, but you do have the reassurance of a generous guaranteed income for life.
To find out more about your defined benefit pension, you can talk to a specialist financial adviser.